Philippine banks may face mounting pressure on profitability as the economic fallout from the Middle East conflict weighs on borrowers, slows loan growth, and raises credit risks, according to Fitch Ratings.

The credit rating agency downgraded its outlook on the Philippine banking sector to "deteriorating" from "neutral," citing the country's vulnerability to higher inflation and slower economic growth amid rising global uncertainties.

“Weaker domestic demand and tighter policy settings are likely to drive credit deterioration in the region’s more vulnerable markets. In the Philippines, significantly higher inflation is hurting a consumption-led economy,” Fitch said.

The agency warned that banks could face slower loan expansion, higher credit costs, and weaker operating profitability, even as elevated interest rates continue to support lending margins.

Data from the Bangko Sentral ng Pilipinas (BSP) showed the banking industry's net profit rose nearly 3 percent year on year to a record P104.82 billion in the first quarter despite setting aside higher provisions amid risks stemming from the Middle East conflict. Net interest income increased 12.44 percent to P310.59 billion, supported by higher borrowing costs.

However, non-interest expenses climbed 8.7 percent to P207.73 billion, reflecting higher spending on compensation, taxes, impairment losses, and provisions.

The Financial Stability Coordination Council (FSCC), meanwhile, said in a recent report that Philippine banks remain largely insulated from the Middle East, limiting the risk of direct financial contagion.

“As of December 2025, combined cross-border claims on Africa and the Middle East accounted for only 1.9 percent of total claims, while liabilities represented 1.6 percent,” the FSCC said.

“Exposures to Iran and Israel are negligible, suggesting banking sector spillovers are more likely to arise from indirect channels—higher oil prices, tighter external financing conditions, and weaker growth—rather than direct counterparty defaults.”